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REPEATED MORAL HAZARD AND CONTRACTS WITH MEMORY: THE CASE OF RISK‐NEUTRALITY *
Author(s) -
Ohlendorf Susanne,
Schmitz Patrick W.
Publication year - 2012
Publication title -
international economic review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 2.658
H-Index - 86
eISSN - 1468-2354
pISSN - 0020-6598
DOI - 10.1111/j.1468-2354.2012.00687.x
Subject(s) - moral hazard , unobservable , incentive , principal (computer security) , economics , period (music) , hazard , risk neutral , neutrality , actuarial science , microeconomics , econometrics , computer science , law , political science , computer security , chemistry , physics , organic chemistry , acoustics
We consider a repeated moral hazard problem where both the principal and the wealth‐constrained agent are risk‐neutral. In each of two periods, the agent can exert unobservable effort, leading to success or failure. Incentives provided in the second period act as carrot and stick for the first period, so that the effort level induced in the second period is higher after a first‐period success than after a failure. If renegotiation cannot be prevented, the principal may prefer a project with lower returns; i.e., a project may be “too good” to be financed or, similarly, an agent can be “overqualified.”